2024 (9) TMI 1505 - AT - Income Tax

Software access services don't qualify as Fees for Included Services under Article 12(4)(b) tax treaty provisions

The ITAT Delhi held that income from software access services did not constitute Fees for Included Services (FIS) under tax treaty provisions. The ... Income deemed to accrue or arise in India - income qualifies as FIS - nature of services is highly technical - DRP to conclude that the report or information generated by access to the software of assessee, can be called ‘Technical’ as with regard to the nature of services generating FIS - HELD THAT:- In the present case, only commercial information is transferred to the end user and not technical knowledge as required under Article 12(4)(b) to constitute FIS. Clearly, commercial information/output from a technical application does not constitute FIS as there is no technical design, process or plan which has been transferred to the client providing enduring benefit. Clause 2 of agreement clearly mentions all rights and test of Application remains with assessee and end users have not been given source code of the application which constitute technical knowledge an per 12(4)(b). In this context, we find force in the contention of Ld. Counsel, that when no source code was shared with the end users, said end user cannot be said to have been enabled for any enduring benefit. In present case, this test is not satisfied by any stretch as the contract is limited only to grant of access to the software during the subscription period and on the expiry of the subscription period, the access to the software gets terminated and the customer content also stands deleted. Facts the 'make available’ clause is not satisfied, as erroneously held by the DRP. Decided in favour of assessee. Issues Involved:1. Taxability of income received by the assessee under the India-USA Double Taxation Avoidance Agreement (DTAA).2. Classification of income as 'Royalty' or 'Fees for Technical Services (FTS)'.3. Application of the Supreme Court judgment in the case of Engineering Analysis Centre of Excellence Pvt. Ltd.4. Enhancement of the addition by the Dispute Resolution Panel (DRP).5. Principles of natural justice and procedural fairness.6. Initiation of penalty proceedings under section 270A of the Income-tax Act.Detailed Analysis:1. Taxability of Income under India-USA DTAA:The assessee, a US-based company, filed a return of income for the assessment year 2018-19, claiming an exemption of INR 9,09,42,347 as business income not taxable in India due to the absence of a permanent establishment. The Assessing Officer (AO) disputed this, asserting that the income should be classified as 'Royalty' under the Act and DTAA.2. Classification of Income as 'Royalty' or 'FTS':The AO initially classified the income as 'Royalty', but the DRP concluded that the income did not qualify as 'Royalty' but rather as 'Fees for Technical Services (FTS)' under the Act and 'Fees for Included Services (FIS)' under the India-USA DTAA. The DRP's decision was based on the nature of services being highly technical and making available technical knowledge to the customers.3. Application of Supreme Court Judgment:The assessee relied on the Supreme Court judgment in Engineering Analysis Centre of Excellence Pvt. Ltd., arguing that the limited right to use software does not qualify as 'Royalty'. The AO rejected this argument, stating that the facts of the assessee's case were different from those in the Supreme Court judgment.4. Enhancement by DRP:The assessee contended that the DRP had no power to enhance the addition by changing the head of income from 'Royalty' to 'FTS'. The Tribunal examined the business model of the assessee and found that the services provided were commercial in nature and did not make available any technical knowledge, thus not satisfying the criteria for FIS under Article 12(4)(b) of the India-USA DTAA.5. Principles of Natural Justice:The assessee argued that the final assessment order was bad in law due to the absence of a show-cause notice for treating the income as FIS and the lack of opportunity to present its case. The Tribunal found merit in this argument, emphasizing the importance of procedural fairness and adherence to principles of natural justice.6. Penalty Proceedings:The assessee challenged the initiation of penalty proceedings under section 270A of the Act. The Tribunal's decision to allow the appeal rendered this ground consequential.Conclusion:The Tribunal allowed the appeal, holding that the income did not qualify as FIS under the India-USA DTAA. The Tribunal emphasized that the services provided by the assessee were commercial in nature and did not make available any technical knowledge or expertise to the customers. The Tribunal also highlighted the importance of procedural fairness and adherence to principles of natural justice in the assessment process. The appeal was allowed, and the assessment order was set aside.